The Acreage and Borrowing Effects of Direct Payments Under Uncertainty: A Simulation Approach

We use simulation methods in an expected utility maximization framework to analyze a farmer’s optimal resource allocation in the presence of government payments, decoupled and not. This framework is extended to incorporate the optimal choice of investment levels in the presence of credit constraints. Further extensions include a wealth-dependent interest rate and decreasing marginal yields. We find decoupled payments affect the optimal choices of the credit-constrained farmer through a collateral-enhancement effect, so they do distort production. The 2005 proposal by Senators Grassley, Dorgan, Hagel, and Johnson to tighten limits on commodity payments is not found to affect payments of the typical Kansas farmer.